Trusts might seem out of fashion, but they remain a crucial tool for managing wealth and minimising tax bills.
If you’re keen on protecting the wealth you’ve diligently built over a lifetime, trusts could be an indispensable component of your financial strategy.
(Read Time: Approx. 4 minutes)
Topics Discussed:
- The basic structure and purpose of trusts.
- Case studies illustrating how trusts can mitigate tax burdens.
What Is a Trust?
A trust involves three main parties: the settlor, the trustee, and the beneficiary.
The settlor creates the trust and places assets into it.
The trustee manages the trust, ensuring the assets are used according to the settlor’s wishes.
A beneficiary is a person who benefits from the trust.
Trusts are often misunderstood, even among professionals, due to their complex nature.
Essentially, a trust allows you to give away assets while maintaining control over how those assets are used, providing a safeguard against potential mismanagement by the beneficiary.
Historical Context and Tax Advantages
Historically, trusts have been utilised to reduce inheritance tax (IHT).
By placing assets into a trust, they are removed from your estate, thus reducing the taxable value upon your death.
For IHT, which is a tax on the estate of the deceased, the goal is often to reduce the estate’s value to below the taxable threshold.
Before the 2006 changes, trusts were widely used to achieve this, offering a way to protect assets from the hefty 40% IHT rate.
The 2006 Legislative Impact
In 2006, then Chancellor Alistair Darling introduced significant changes to the tax treatment of trusts, imposing a 20% lifetime IHT charge on the creation of most trusts exceeding £325,000.
This legislative change aimed to close perceived loopholes and increase tax revenue, effectively deterring many from using trusts for larger amounts.
The immediate impact was a sharp decline in the use of trusts for estate planning purposes, as the upfront tax charge made them less attractive.
Trusts: Not Dead, Just Resting
Despite the 2006 legislative changes, trusts remain valuable in specific scenarios, particularly for those with substantial assets or unique family situations.
Trusts can still provide significant benefits in managing and protecting wealth. Here are a few examples:
Equity Release
Billy and Jean are an elderly couple whose main asset is their £1.5 million home, which they own outright.
They have satisfactory pensions and one daughter, who has a history of unstable relationships.
To avoid a substantial IHT bill, they take out an equity release loan for £600,000 and place this amount into a trust for their daughter and grandchildren.
The trust uses the funds to purchase a home for their daughter. This strategy not only removes the £600,000 from Billy and Jean’s estate, reducing their IHT liability, but also protects the asset from potential claims by their daughter’s future partners.
This way, the trust provides a secure home for their daughter and ensures that the asset remains within the family.
Trusting in Shares
Tina runs a successful toy shop and is concerned about future changes to the current 100% Business Property Relief (BPR) on her shares, which currently shields the value of her business from IHT.
To safeguard against potential legislative changes, Tina places her shares into a trust for her children. By doing this, she ensures that the shares are protected from IHT, provided she survives for another seven years after the transfer.
This move offers peace of mind that her business can continue without being crippled by tax liabilities upon her death, even if BPR rules are altered in the future.
Managing Surplus Cash
Yannis owns a profitable company with a significant surplus cash balance.
He faces a dilemma: while the company itself benefits from BPR, the surplus cash does not.
To mitigate potential IHT, Boutros forms a trust and gifts 49% of the company shares to it.
By applying a 30% discount on the value of a minority shareholding, he minimises his IHT liability.
This strategy effectively reduces the value of his estate for IHT purposes without incurring immediate tax consequences.
The trust arrangement ensures that the cash remains within the company, available for business use, while also protecting it from being heavily taxed upon Yannis’ death.
The Practicalities of Using Trusts
While trusts offer significant benefits, they also come with complexities and costs that must be carefully considered.
Setting up a trust involves legal fees, ongoing administrative costs, and potential tax implications.
It’s crucial to consult with estate planning professionals to navigate these complexities effectively.
Key Considerations:
- Control and Flexibility: Trusts allow you to maintain control over how and when beneficiaries access the assets, providing flexibility in managing your estate.
- Protection from Creditors: Assets held in trust are generally protected from the beneficiaries’ creditors, offering a layer of financial security.
- Tax Efficiency: While the initial setup may involve tax charges, the long-term benefits often outweigh these costs, particularly in reducing IHT liabilities.
Summary
Trusts continue to offer strategic benefits for managing and protecting wealth, despite legislative changes.
They can provide peace of mind and financial security, particularly in complex family situations or for significant assets.
Estate planning can be challenging, but you don’t have to do it alone.
At Help Me Legal Solicitors, our experienced team is dedicated to helping you protect your wealth and ensure your legacy is preserved for future generations.
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